Sunday, September 15, 2013

BoC Deputy Governor: US Fed Tapering is Eh-Okay

Bank of Canada Deputy Governor John Murray is confident that Fed
tapering won’t have any negative consequences for Canada. “The improving
underlying strength of the U.S. economy should more than compensate for
the drag from higher interest rates. Stronger external demand, coupled
with downward pressure on our currency and support for commodity prices
from a global economic recovery, will provide the lift,” he said in a speech.

As usual, Bank of Canada officials have got it wrong. In order to
finance their massive debt, the United States government sells bonds to
investors. Once upon a time, countries like Canada, China, and other
nations gladly bought US Treasuries. But with the on-going deficit, debt
and unfunded liabilities resulting in a $222 trillion
sink-hole, the buyers market for US bonds is shrinking by the day.
Hence the Federal Reserve’s bond-buying program. For every Treasury the
rest of the world doesn’t buy, Ben Bernanke is there to soak up the
supply.

By buying $85 billion a month of Treasuries and mortgage-backed
securities, the Federal Reserve has successfully kept interest rates low
and kept financial markets “liquid.” While mainstream economists and
Bank of Canada Deputy Governor John Murray see this as benign, Austrian
economists point to some disturbing fundamentals.

For starters, low interest rates and cheap money is what got the US
into all these problems. There is no ounce of sanity in spending your
way to a recovery when that is what got you into the mess in the first
place. Low interest rates backed by cheap credit distort the production
structure in the economy. All goods and services that aren’t
nature-given must be produced through an array of capital goods. This
delicate order of heterogeneous capital goods involve millions of
people, acting as both buyers and sellers. All these capital goods must
eventually produce a consumer product, and this consumer product must
satisfy consumer demands. Otherwise the whole process is wasted energy.
The best means of figuring out how best to organize the production
structure is through the price system. Not only for prices of consumer
goods or capital goods, but the price on investments as well. Interest
is the discount in the valuation of future goods against present goods.
It is a crucial component in the economy.

Unfortunately, the free price system that has generated prosperity
for generations has slowly but surely disintegrated due to meddling
government intervention. A price control here, a price control there –
it all adds up in the end. Now we might be at the end.
The US Federal Reserve no longer allows the market to set prices. All
financial assets in the economy are priced by a Board of Directors. This
monetary socialism plain and simple. The idea that the Fed can back out
of its bond-buying program and have the economy stand up on its own is
laughable – if it didn’t involve the massive impoverishing of an entire
nation.

If the Fed isn’t buying US treasuries, then who will? John Murray
insists that there is an “underlying strength [in] the U.S. economy,”
but where is this strength? Distorting interest rates have dilapidated
the production structure – as if exponential credit creation can be
sustained on finite resources. If the US didn’t hold the world’s reserve
currency status, they would have gone the way of Zimbabwe a long time
ago.

Bank of Canada Deputy Governor John Murray would be best to listen to Peter Schiff and
not Ben Bernanke. Bernanke insists that tapering is like pulling a
table cloth off the table and having the plates, cutlery and glasses
remain in place. Schiff holds that Bernanke has got the analogy mixed
up. The table cloth isn’t the Fed’s “stimulus.” The table itself is the
stimulus. Bernanke is trying to remove the table and have the table
cloth, plates, cutlery and glasses remain floating in mid air.
Obviously, this is impossible. Likewise, it’s impossible for the US Fed
to get out of the mess they’ve created. John Murray is foolish to
believe that the US in a recovery. While higher commodity prices will
continue to generate wealth in places like Alberta, Saskatchewan and the
Yukon – the effects of Canada’s largest trading partner going the way
of the Soviet Union will certainly cause some unavoidable headwinds.